Computing the Price-Earnings Ratio The income statement, statement of retained e

Question

Computing the Price-Earnings Ratio

The income statement, statement of retained earnings, and balance sheet for Somerville Company are as follows:

Also, assume that the price per common share for Somerville is $8.10.

Required:

Compute the price-earnings ratio. Round your answer and intermediate calculations to two decimal places.

Somerville Company
Income Statement
For the Year Ended December 31, 2016 Amount Percent Net sales $8,281,989 100.0% Less: Cost of goods sold (5,383,293) 65.0 Gross margin $2,898,696 35.0 Less: Operating expenses (1,323,368) 16.0 Operating income $1,575,328 19.0 Less: Interest expense (50,000) 0.6 Income before taxes $1,525,328 18.4 Less: Income taxes (40%)* (610,131) 7.4 Net income $ 915,197 11.0 * Includes both state and federal taxes.

Explanation / Answer

Price - earnings ratio = Market price per share / Earnings per share

EPS = Net profit / Number of shares outstanding = 915,197 / 225,000 = $4.06

(*) No. of shares outstanding = Common Stock / par value = 337,500 / 1.5 = 225,000

P-E Ratio = 8.10 / 4.06 = 2 (1.99 rounded off to 2)

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